Tag: incentives

What Is the Evidence on the Swedish “Paternity Leave” Policy?

Posted on February 5, 2024 | Policy Brief

20240204 Swedish Paternity Leave image representing fathers parental leave policy

Since 1995, Sweden has earmarked an increasing number of parental leave days to each parent, creating a strong incentive for fathers to increase their (traditionally low) parental leave uptake. The literature on the causal impacts of these policies establishes several important findings. First, the incentive seems to work, as fathers tend to increase their uptake of paternity leave. However, who responds to the incentive, the timing of the leave and how mothers adjust to it is heterogenous, depending on the policy design and the underlying couple characteristics. Second, there is no strong support in the data for the argument, popular in public opinion and among policy-makers, that paternity leave should improve the balance of childcare duties within a couple and ultimately enhance women’s labor market position. However, in order to estimate causal effects, the studies reviewed in this policy brief focus on the first cohort of families affected by earmarked parental policies, whereas impacts on mothers’ labor market outcomes are more likely to manifest in the long run. Further, paternity leave policies in the broader sense have benefitted mothers’ health post childbirth and they may also have broken the social stigma on fathers taking time off to care for their children. Finally, recent evidence suggests that earmarking has improved gender attitudes in the next generation, making men less likely to hold stereotypical views about gender roles in society.

Parental Leave in Sweden

All parents in Sweden have been entitled to paid parental leave benefits since 1974, with no difference between birthing and non-birthing parents (for simplicity referred to as mothers and fathers henceforth). Despite this, fathers’ parental leave take-up has historically been very low (see Figure 1).

To change this pattern, the legislator has introduced a few reforms over the years. In 1995, 30 of the wage-replaced days (i.e. parental leave days compensated at almost the rate of the daily wage) were earmarked to each parent, creating the so called ”mum/dad month”. When a parent failed to take up these 30 days these would be “lost”, as earmarked days could not be transferred to the other parent. Through two subsequent reforms, effective from 2002 and 2016 respectively, the number of earmarked wage-replaced days increased, first to sixty days and then to ninety days.

Today, the total allowance is 480 benefit days, of which 390 are wage-replaced (paid at about 80 percent of the parent’s wage), and the remaining 90 are compensated at a low flat rate (approximately 15 euros per day). 90 of the wage-replaced days are earmarked to each parent. The parental leave days can be utilized until the day the child turns 12 or until the child finishes 5th grade, but 80 percent of these days must be used by the time the child turns 4.

As shown in Figure 1, father’s share of the total parental leave steadily grew over the years when the earmarking reforms occurred but has since 2018 stalled at a rate of 69/31 (i.e., mothers and fathers take 69 and 31 percent respectively of the total number of leave days claimed in Sweden during one year).

Figure 1. Men’s share of parental leave days in Sweden, 1974-2021, in percent.

Source: Author’s compilation based on data from Statistics Sweden.

One could speculate, based on these trends, that earmarking might have successfully increased father’s take-up of parental leave. However, without rigorous statistical analysis, it is virtually impossible to distinguish between the role of the earmarking polices and secular trends in preferences over parental leave. Thankfully, a few papers have studied the Swedish parental leave reforms, using state-of-the art techniques to understand their respective causal impacts. What is the research-based evidence on the Swedish parental leave earmarking reforms? Did they successfully incentivize fathers to increase their take-up? Did they succeed in their broader goal of balancing child responsibilities within couples, ultimately helping women improve their position in the labor-market? How were children affected by them? What lessons from the Swedish experience can be useful for fine-tuning of the Swedish policy or for similar designs in other countries?

This policy brief delves into the academic literature on the impacts of the Swedish earmarking reforms. The review is by no means representative of the large amount of academic work produced on the Swedish parental leave reforms. Rather, it is a small selection of studies where results can be more easily interpreted as causal impacts, as they are based on comparing families with children born just before versus just after the relevant date for the policy implementation, and account for so called month-of-birth effects (see e.g. Larsen et al., 2017) when needed. Causal estimates can be more directly used to inform policy-making, which is what motivates the focus of this review.

Earmarking and Take-up of Paternity Leave

As explained above, the Swedish earmarking system creates strong incentives for fathers to increase their take-up of leave days, as these would otherwise be “lost”, leaving couples with the need to resort to potentially more costly arrangements for childcare.

It is thus not surprising that the 1995 reform increased fathers’ take-up of wage-replaced leave by an average of 15 days, 50 percent of the pre-reform take-up (Ekberg et al., 2013). This change seems to mostly stem from the 54 percent of fathers who were taking 0 days of leave before the reform and were induced to take between 20 and 40 days after, so that the percentage of fathers not taking any leave declined to 18 precent.

In a recent working paper, Avdic et al. (2023) complement this evidence, considering all leave days together. They show that the reform induced fathers to increase their take-up of total parental leave by 21 days, whereby mothers decreased it by the same amount. Therefore, on average, the total amount of leave taken by Swedish parents remained unchanged, but the mother’s share decreased by about 5.4 percentage points. The paper also compares changes in parents’ take-up month-by-month, finding that some mothers took some unpaid leave within the child’s first year to compensate for the loss of wage-replaced days. It is not clear why these mothers would not resort to the low flat rate leave, as other mothers seem to have done (see Ekberg at al., 2013). In general, the data points to fathers having mostly, although not exclusively, substituted for mothers’ time with the child during the child’s second year of life.

Avdic and Karimi (2018) extend the policy-evaluation to the 2002 reform, which earmarked one additional month to each parent, but also made one more month of wage-replaced leave available. They find that this reform also caused an increase in take-up of paternity leave, but for a different group of fathers. While in 1995 fathers that otherwise would have taken no leave were induced to take approximately one month, the 2002 shift occurred mostly among fathers who, instead of taking between 30 and 40 days of leave, started taking more than 50 days.

These findings are consistent with those in Alden et al. (2023), who study the characteristics of fathers who do not take any leave. They find that while the 1995 reform changed the composition of this group of fathers, the same thing did not happen with the 2002 and 2016 reforms. Over-time, one group of men consistently stands out for not taking any parental leave regardless of the incentives created by the legislator, namely fathers with worse labor-market positions, and whose earnings are lower than that of the mothers.

Paternity Leave and Gender Gaps

The main motivation for policies that seek to increase the take-up of parental leave among fathers is that this increase can help women, especially high-skilled ones, improve their labor-market position (Ekberg et al., 2013). The economics literature has long established a systematic loss in earnings and employment for women following the birth of their first child (the so-called child penalty; see e.g. Kleven et al., 2019). There are two main mechanisms through which earmarking policies could improve women’s labor market outcomes. First, if firms discriminate against women because of the (perceived) cost of maternity leave, the discrimination should decline once employers expect also men to take parental leave. Ginja et al. (2020) show evidence (although not causal) consistent with long maternity leaves reducing child-bearing aged women’s “attractiveness” among Swedish employers.  Second, by creating a stronger bond between fathers and children, and by reducing mothers’ specialization in childcare, paternity leave should increase the time fathers allocate to childcare as the child grows up, thus re-balancing the division of non-market (and possibly market) work within the couple.

As pointed out in Cools et al. (2015), the first type of effect, more likely to be relevant in the long run, is hard to estimate with data from only one country, as virtually all employers in the country should be somewhat affected by the change in perceptions.

Instead, Ekberg et al. (2013) study the effect on intra-household division of childcare responsibilities, by estimating the impact of the 1995 reform on the amount of time that fathers and mothers claim off work when their child is sick. They find no evidence that the 1995 reform increased the share of time off taken by fathers to care for sick children. Consistently, the study also fails to find evidence of large and robust changes in mothers’ earnings for thirteen years post childbirth. Similarly, Avdic et al. (2023) show that mothers affected by the 1995 reform did not increase, on average, their labor supply, except during the first year of the child’s life.

While these analyses are extremely valuable for our understanding of the reforms’ effects on the first cohort of families affected, they fall short of capturing long-term dynamics. For instance, it is important to acknowledge that the decision on who takes time off when the child is sick depends on many factors, including the availability of flexible arrangements at work. Women are known for selecting into occupations and jobs that allow a more flexible schedule (Goldin, 2014). This pattern might change if the increase in take-up of paternity leave leads to updated expectations among women on partners’ willingness to share daycare responsibility. This is most likely a long-term development, which the design used in the above outlined studies does not capture.

Another effect of the Swedish parental leave system, not directly linked to earmarking but nevertheless indicative of the importance of fathers’ time off work during the child’s first year of life, is that on mothers’ health. Persson and Rossin-Slater (2019) show that a Swedish 2012 reform that in practice allowed fathers to take 30 days of parental leave in concomitance with the mother during the child’s first year of life reduced the likelihood of mothers experiencing health issues due to post-partum complications.

An important aspect that the literature has so far not emphasized is also that earmarking reforms might affect another gender gap, namely the “freedom” to take the leave. Given the traditional division of roles across genders, there might be a stigma at a societal level against men taking parental leave. By creating strong economic incentives for taking paternity leave, the earmarking policies may downplay the stigma in the short-term and break it in the long-term. There is some suggestive, although not definitive, evidence that norms around paternity leave might have changed. Avdic and Karimi (2018) show that between 1995 and 2002 the share of fathers who were taking more than one month of leave had already started increasing before the second month was earmarked. More research would be needed, however, to assess the role of policies in changing societal perceptions around paternity leave.

Paternity Leave and Children’s Outcomes

An obvious question to ask is how children are affected by earmarking of parental leave days. Avdic et al. (2023) study this question in the context of the 1995 reform. By looking separately at different groups of children by sex and parents’ education, they find that the 1995 reform caused a decline in GPA for sons of non-college-educated fathers and mothers. The most likely channel for this relationship, according to the authors, is boys’ diminished access to fathers’ time, due to the 1995 reform increasing the likelihood of couple dissolution within the child’s first three years of life (for households with low-earning mothers). At that time children tended to live predominantly with the mother in case of parental separation. However, a potential additional channel could be the worsened economic situation caused by the paternity leave. In households with low-earning mothers, mothers’ and family earnings declined post-reform due to mothers compensating for “lost” leave days by taking unpaid leave. Very conflictual separations could also be behind the effect on children’s GPA.

These findings highlight the importance of considering potential unintended consequences of the parental leave policies, and the diverse effects they might have on different demographic groups. Such considerations could improve the design of future policies. For instance, Avdic and Karimi (2018) find that the 2002 reform, which earmarked one more month and added one month of wage-replaced parental leave, did not cause couple dissolution. Thus, the authors conclude that not imposing strong constraints on households, while creating incentives for fathers to take paternity leave, is highly desirable.

Finally, in a very recent working paper, Fontenay and Gonzalez (2024) consider the effect of earmarking policies on children’s gender attitudes as adults, leveraging data from online surveys of 3,000 respondents across six European countries, including Sweden. They study changes in attitudes as measured by an Implict Association Test, which is meant to capture subconscious associations between women and family and men and career.  In five of the countries studied they find that male respondents born soon after an earmarking reform have less stereotypical gender attitudes than those born before. No differences are detected for women. The effect in Sweden is one of the largest: in a sample of 237 male respondents, the father being eligible for the “dad-month” makes the child hold more egalitarian gender-attitudes as an adult by 0.3 standard deviations. The authors suggest that a role model effect might be at play, whereby boys who observe their fathers being more involved in childcare are nurtured to hold more egalitarian beliefs about gender roles.

Conclusion

Since 1995, Sweden has earmarked an increasing number of parental leave days to each parent, creating strong incentives for fathers to increase their previously very low parental leave uptake. This policy brief has reviewed the literature that studies the causal impacts of these earmarking reforms, highlighting a number of important conclusions as well as gaps in the knowledge on the effects of these policies.

First, the incentives created by the earmarking policies seem to work, as fathers tend to increase their uptake of paternity leave, while mothers tend to increase their labor supply during their child’s first year of life. However, such effects are heterogeneous, depending on the policy design and the underlying couple characteristics. Designs that impose strong constraints on household choices seem to have adverse effects on low-income or low-education households, reducing mothers’ earnings, triggering couple dissolution, and negatively affecting children’s GPA. Future increases in earmarking or similar policies in other countries should consider these design details carefully.

Second, there is no strong support in the data for the argument, popular in the public opinion and among policy makers, that paternity leave improves the balance of childcare duties within a couple and that it ultimately enhances women’s labor market position. However, to estimate causal effects, the studies analyzed in this policy brief focus on the first cohort of families affected by the earmarked reforms, whereas impacts on mothers’ labor market outcomes are more likely to be seen in the long run. After all, Sweden is one of the countries with the lowest documented child penalty in employment and earnings (see the child penalty atlas), and it is unlikely that policy played no role in narrowing gender gaps among parents. Consistently, recent evidence suggests that earmarking has improved gender attitudes in the next generation, making men less likely to hold stereotypical views about gender roles in society.

Further, it is important to mention that paternity leave policies in general have benefitted mothers’ post-childbirth health and that they may have broken a societal stigma around fathers taking time off to care for their children.

References

  • Aldén, L., Boschini, A. and Tallås Ahlzen, M. (2023). Fathers but not Caregivers. http://dx.doi.org/10.2139/ssrn.4405212
  • Avdic, D. and Karimi, A., (2018). Modern family? Paternity leave and marital stability. American Economic Journal: Applied Economics, 10(4), pp. 283-307.
  • Avdic, D., Karimi, A., Sundberg, E. and Sjögren, A. (2023). Paternity leave and child outcomes. IFAU, Working Paper 25.
  • Ekberg, J., Eriksson, R., and Friebel, G. (2013). Parental leave—A policy evaluation of the Swedish “Daddy-Month” reform. Journal of Public Economics, 97, pp. 131-143.
  • Ginja, R., Karimi, A. and Pengpeng Xiao. (2023). Employer responses to family leave programs. American Economic Journal: Applied Economics, 15(1), pp. 107-135.
  • Goldin, C., (2014). A grand gender convergence: Its last chapter. American Economic Review, 104(4), pp. 1091-1119.
  • Gonzalez, L. and Fontenay, S. (2024). Can Public Policies Break the Gender Mold? Evidence from Paternity Leave Reforms in Six Countries. BSE, Working Paper 1422.
  • Kleven, H., Landais, C., Posch, J., Steinhauer, A. and Zweimüller, J. (2019). Child penalties across countries: Evidence and explanation”. AEA Papers and Proceedings, 109, pp. 122-126.
  • Larsen, E. R. and Solli, I. F. (2017). Born to run behind? Persisting birth month effects on earnings. Labour Economics, 46, pp. 200-210.
  • Persson, P., and Rossin-Slater, M. (2019). When dad can stay home: fathers’ workplace flexibility and maternal health. National Bureau of Economic Research, Working Paper 25902.

Disclaimer: Opinions expressed in policy briefs and other publications are those of the authors; they do not necessarily reflect those of the FREE Network and its research institutes.

Ownership Structure, Acquisitions and Managerial Incentives

Posted on March 18, 2019 | Policy Brief

20190318 Ownership Structure, Acquisitions and Managerial Incentives Image 01

Both the theoretical and empirical literature assume that takeovers are less likely to occur when firms have large concentrated shareholders, e.g. family firms. Hence the disciplinary role of takeovers becomes irrelevant in incentivizing the management. We argue that this conjecture is false. Using a contracting model, we show that the existence of takeovers can work in favour of firms with controlling shareholders, amplifying the disciplinary effects relative to firms with dispersed shareholders. We further show how takeover threats interact with alternative governance structures, specifically, with monitoring and performance pay. While carrots (performance pay) and sticks (takeover threat) play substitute roles in incentive provision, the internal monitoring available to large shareholders is a substitute mechanism irrespective of the disciplinary effect of the market for corporate control.

Introduction

The nature of optimal corporate ownership has been a longstanding question in corporate governance literature.  While large controlling shareholders can address managerial agency problems by monitoring management and alleviating the free-riding problem in takeovers (see e.g., Grossman and Hart, 1980; Demsetz and Lehn, 1985 and Burkart, Gromb and Panunzi, 1997), they may also expropriate other  stakeholders by influencing management or deterring efficient takeovers to maintain their private control benefits (Stulz,1988). Empirical evidence about the effect of controlling shareholders, for example a founding family, on firm performance is also inconclusive (see Bertrand and Schoar (2006) who review the empirical studies on family ownership).

Amid the ongoing debate, we provide a new perspective on the role of controlling shareholders in the market disciplinary mechanism, and how it interacts with the firm’s potential synergy characteristics and internal governance mechanisms. While the use of performance pay and internal monitoring are easily justified by the extant literature, the disciplinary effects of the market for corporate control are less obvious. In many countries, there are debates about the social cost of concentrated ownership structures, and some regulators (e.g., the European Commission) have been advocating in favour of breaking up concentrated ownership structures to facilitate the market for corporate control and its managerial disciplinary function.

In contrast to this standard view, our analysis shows that the managerial disciplinary mechanism of synergistic takeover can be strengthened by the presence of controlling shareholders.  Furthermore, while the control premium required by controlling shareholders reduces the incidence of synergistic takeovers, the internal monitoring performed by these shareholders can complement the market disciplinary mechanism in high synergy potential firms.  Overall, it is ambiguous whether dismantling a concentrated ownership structure would increase firm value and, in particular, in firms which provide high synergy potential to acquirers.

Our analysis suggests that more sophisticated policies for the market for corporate control may improve the social welfare more effectively.

Controlling Ownership and Managerial Agency Problem

The managerial agency problem is relevant even when considering takeovers of family firms. Founders hold 15% of the CEO positions, 30% are held by descendants while the absolute majority of approximately 55% are held by professional managers (Villalonga and Amit, 2006). Bidders that operate in the same industry, for example, will be able to observe the state of demand to assess the synergistic improvements. In contrast, family owners are likely to be less actively involved in firm operations, and less informed about the industry/market situation, which suggests their lack of operational expertise vis-a-vis managers.

In the presence of potential conflicts of interest between the management and shareholders, the market for corporate control serves a disciplining role. Then why does the private benefit of controlling shareholders, which increases the takeover premium, strengthen this market disciplinary mechanism?

We argue that, notwithstanding their negative effect on the incidence of synergistic takeovers, the controlling shareholders can strengthen the managerial disciplinary effect of a takeover in firms that offer acquirers large business synergies.

To answer the question intuitively, suppose that the manager has no anti-takeover defense. In this case, the manager can secure herself from takeover threats only by increasing the market value of the firm, and, therefore, the takeover threat can discipline the manager. In firms which offer high synergy potential to the acquirers, however, the manager may find it too costly to increase the market value enough to deter a synergistic takeover. The control premium required by controlling shareholders can complement the market disciplinary mechanism in this circumstance, and, specifically, reduce the profitability of synergistic takeovers and make the acquirers’ bidding choice more sensitive to current market value. That is, it allows the managers of firms that offer high business synergies to reduce the takeover threat significantly by increasing the market value.

Technically, our model shows that the necessary and sufficient condition for the complementarity of ownership concentration and the market disciplinary mechanism is the log-convexity of the distribution function of potential business synergy. The market value increase from truthfully reporting the favorable state may, in itself, not significantly deter the takeover attempts for these firms since acquirers still find the business synergy more than offsets a high stock price. The control premium required by controlling shareholders makes truthful managerial reporting (and the corresponding market value enhancement) more effective in reducing the likelihood of a takeover. Specifically, the control premium increases the manager’s opportunity cost of misreporting and, in turn, it reduces the information rent that shareholders forgo to the manager.

Interaction with Other Governance Mechanisms

The analysis also provides implications for the relationship between ownership structure and other governance mechanisms, such as managerial compensation and the monitoring function of controlling shareholders.

Given that the managerial agency problem cannot be fully eliminated by the takeover threat and managerial compensation, the monitoring function of controlling shareholders can complement the other two governance mechanisms in our setting.

We show that the disciplinary effect of synergistic takeovers reduces the information rent paid to the manager and, thus, it diminishes managerial incentive pay. This implies that managerial pay-performance sensitivity is negatively associated with ownership concentration in firms which offer high business synergies. Furthermore, our analysis also shows that, in high synergy potential firms in which controlling shareholders strengthen the market disciplinary mechanism, monitoring function of controlling shareholders can complement the market disciplinary mechanism, and, thus, ownership concentration increases the operating efficiency relative to firms with dispersed ownership.

Conclusion

Contrary to the common prior, the disciplinary effect of synergistic takeovers can be stronger in high synergy potential firms with controlling shareholders due to improvements in incentives for managerial self-selection. Specifically, the control premium encourages the manager to deter the takeover threat by increasing the current value of the firm. In this case, managerial entrenchment is consistent with improvements in shareholder value.

The disciplinary effect acts as a complement to the internal monitoring efforts of controlling shareholders in reducing the amount of incentive pay required to induce managerial truthfulness. In contrast, the control premium in firms with few synergies isolates the manager from the takeover threat, making incentive provision reliant on internal monitoring.

However, the disciplining effect of synergistic takeovers is not without its costs, making the overall value implications ambiguous. Incentive provision requires that shareholders accept relatively low bidding prices, by allowing takeovers with negative synergies. Furthermore, tailoring correct incentive pay requires a relatively high distortion to effort levels in times of economic downturns. While controlling ownership is able to mitigate these concerns, the existence of a control premium also reduces the incidence of socially desirable synergistic improvements in firm value.

Overall, policy makers should take care when considering implementation of constraints on the controlling states in order to facilitate the market for corporate control.

References

  • Anderson, Ronald C., and David M. Reeb, 2003. “Founding-family ownership and firm performance: Evidence from the S&P 500”, The Journal of Finance, 58, 1301-1327.
  • Bertrand, Marianne, and Antoinette Schoar, 2006. “The role of family in family firms”, Journal of Economic Perspectives, 20, 73-96.
  • Burkart, Mike, Denis Gromb, and Fausto Panunzi, 1997. “Large shareholders, monitoring and the value of the firm”, The Quarterly Journal of Economics,112, 693.
  • Demsetz, Harold, and Kenneth Lehn, 1985. “The structure of corporate ownership: Causes and consequences”, Journal of Political Economy, 93, 1155-1177.
  • Grossman, Sanford J., and Oliver D. Hart, 1980. “Takeover bids, the free-rider problem, and the theory of the corporation”, The Bell Journal of Economics,11, 42-64.
  • Villalonga, Belen, and Raphael Amit, 2006. “How do family ownership, control and management affect firm value?”, Journal of Financial Economics, 80, 385-417.
  • Stulz, Renee, 1988. “Managerial control of voting rights: Financing policies and the market for corporate control”, Journal of Financial Economics, 20, 25-54.

Disclaimer: Opinions expressed in policy briefs and other publications are those of the authors; they do not necessarily reflect those of the FREE Network and its research institutes.

When Fair Isn’t Fair: Framing Taxes and Benefits

Posted on March 26, 2018 | Policy Brief

20180325 When Fair Is Not Fair Image 01

Taxes and benefits create incentives for people to adopt or avoid certain behaviours. They create premiums for (socially) preferred states. A premium can be determined by either taxing unwanted behaviour or by subsidizing desired behaviour. The resulting economic incentive for changing one’s behaviour is nominally equivalent under both mechanisms. However, the choice of frame for an incentive to be either described in terms of a tax or as a benefit can strongly influence perceptions of what is fair treatment of different, e.g. income, groups. Using a survey-experiment with Flemish local politicians, we show policy-makers to be highly susceptible to such tax and benefit framing effects.  As such effects may (even unintendedly) lead to sharply different treatment of the same group under the two mechanisms, important questions arise, particularly for the design of new tax and benefit schemes.

The design and implementation of redistributive policies usually evoke much discussion. Opinions, both in public and often also in political debate, tend to be driven by ethical and fairness considerations. However, such concerns can lead to unintended consequences and – at least in terms of ex-ante intended fairness – to ex-post imbalanced incentive structures for different (income) groups.

An important function of taxes and benefits is the creation of premiums for certain behaviours or actions. Either unwanted behaviour may be taxed and thereby sanctioned, or desired behaviour may be encouraged through benefits. Irrespective of the method chosen, an economic incentive is created for individuals to opt for the desired behaviour.

The way such premiums are defined can usually be thought of as a two-step process. First, a baseline for a given behaviour, action, or state is chosen as a reference-point. For instance, baseline behaviours could be to not have retirement savings, to not use safety-certified equipment or follow accepted standards at work, or to not have children. Arguably, these are cases warranting the creation of incentives to encourage people to adopt the socially desirable behaviours of saving money for their old age, working in a safe environment, and having children. The second step, then, requires a choice of mechanism to create an incentive. The mechanism can be to either punish the unwanted behaviour – such as not adhering to safety standards at work – or to grant (cost-reducing) subsidies and benefits for taking the desired action, such as saving for old age or having children.

Importantly, the combination of the chosen reference point and the mechanism to create the incentive can influence the way people think about the fairness of an incentive when the targets belong to different (income) groups. Schelling (1981) demonstrated this point in an in-class experiment, which, somewhat simplified, runs as follows:

Families typically receive some child benefit: they get a certain sum per child. Imagine there are two families, one poor and one rich, both with their first child. What amounts of child benefit should each family get? Should the poor get more than the rich, should both families get the same, or should the rich family get more for having a child than the poor family? Schelling’s students would tend to voice support for either the poor getting more or both families getting the same. After all the rich family is surely already affluent enough to support their child. At the extreme, the rich family would get nothing for having a child, and the poor family quite a lot.

Now think of a world where the standard is to have a child, and couples who do not have a child have this ‘socially undesirable’ behaviour ‘penalised’ through a fee, for instance in the form of a tax. Should the poor couple pay a higher fee, should both couples pay the same, or should the rich couple pay a higher fee? The students now overwhelmingly supported requiring the rich couple to pay more. After all, they have more disposable income. However, in this case, the rich couple receives a lot for having a child (they no longer need to pay the steep fee), whereas the poor family may get no (additional) economic incentive for having a child. The treatment of the same family thus obviously drastically differs between the two frames. At the extreme, the poor family gets quite a lot for changing from having no children to having one child in the first frame, but nothing in the second frame. For the rich family, the situation is the reverse: there is no premium for having a child in the first frame, but potentially quite a high premium for having a child in the second frame.

Does this thought-experiment matter outside the classroom (see also Traub 1999, McCaffery & Baron 2004), beyond the context of child benefit, and among those actually exposed to the design considerations of tax and benefit systems? In a recent paper (Kuehnhanss & Heyndels 2018), we test the occurrence of such framing effects with elected local politicians in Flanders, Belgium, who are involved in the budgetary decision-making in their municipalities.

Framing experiment

We invited 5,928 local politicians to take part in an online survey on economic and social preferences in spring 2016. Participation was voluntary, not incentivised, and questions were not compulsory, allowing respondents to skip them if they so chose. In total, 869 responses to the survey were registered and (N1=) 608 participants provided usable answers to the questions relevant to the framing effect described above.

Participants were randomly allocated to one of two groups, each receiving a slightly different wording of the following question:

“In Belgium couples receive financial benefits from the state. Suppose that it is not relevant how the transfer is funded, and ignore any other benefits, which might come into play. How much [more / less] should a couple [with their first child / without children] receive per month than a couple [without children / with their first child]?”

One group saw the question in the benefit frame with only the italicised phrases in the brackets displayed; the other group saw the question in the tax frame with only the phrases in boldface displayed. In both groups, participants were then asked to fill in amounts they would consider appropriate for each of three couples with different monthly net incomes: €2,000, €4,000, or €6,000, respectively.

With framing effects – and distinct from classic rational choice models – the expectation is that the three couples would be treated differently depending on the phrasing of the question. In the italicised benefit version the amount granted should be decreasing with the income of the family. In the boldface tax version the stated amount should be increasing with the families’ income.

Figure 1. Results child scenario

Source: Kuehnhanss & Heyndels (2018, p.32)

As Figure 1 shows, the results strongly conform to this pattern. The low-income (€2,000) couple is granted an average of €330 in the benefit frame, but only €178 in the tax frame (recall that the premium in the latter arises from no longer receiving less – or ‘paying a fee’ – once there is a child). For the high-income (€6,000) couple, the amounts granted average €132 in the benefit frame, but a much higher €368 in the tax frame.

Environmental taxes and benefits

Child benefit systems are usually a well-established part of countries’ tax and benefit systems. The design of new instruments is more common in policy areas undergoing, for instance, technological change or being newly regulated. A relevant example is policy on the promotion of environmentally friendly behaviour and technologies, e.g. through ‘green’ taxes and subsidies. To test the validity of the hypothesised framing effect, we also included a second scenario in our survey related to the municipal interests of our respondents, namely car taxes. Flemish municipalities receive income from a surcharge levied on the car taxes paid by motorists. Consequently, we asked our participants (N2 = 525, see the paper for details) to imagine the introduction of a new environmental certificate for cars in Belgium, and to provide amounts they would consider appropriate for the difference in annual tax paid on cars with or without the certificate. Specifically, roughly one half of participants was asked how much less the owner of a certified car should have to pay in annual car tax than the owner of a non-certified car (the subsidy frame). The other half was asked how much more the owner of a non-certified car should pay in annual car tax than the owner of a certified car (the tax frame). The question was again asked for three different levels, proxying wealth via the cost of the cars: €15,000, €30,000, and €45,000, respectively.

Figure 2. Results car scenario

Source: Kuehnhanss & Heyndels (2018, p.32)

Figure 2 shows the results. The effect is less pronounced in this scenario, as the slope for the granted amounts in the subsidy frame remains largely flat or slightly increases. Nonetheless, a substantial framing effect remains. In the tax frame, the amount of the premium (i.e. the amount of taxes no longer owed once a certificate is obtained) strongly increases with the cost of the car. Taking the most expensive car (€45,000) as an example, we thus observe differential treatment across frames also in this scenario. In the subsidy frame, the premium for having a certificate is €778, in the tax frame it is a much higher €1,333.

Conclusion

These results suggest a strong and economically meaningful effect of framing among policy-makers with a stake in tax and benefit systems. While the exact mechanism driving the results invites further research, the strongly divergent premiums, and hence distribution of incentives, across baseline frames raise concerns of unintended effects in the design of taxes and benefits. Especially new schemes – e.g. ‘green’ policy, reform, or regulatory expansion – may benefit from increased scrutiny in the design process. Awareness of susceptibilities to framing and its potential influence on the formulation of individual tax and benefit instruments may help to align intended fairness, incentive structures, and redistributive outcomes.

References